Executive compensation is different from the compensation of other employees in that the salary and benefits are negotiated and written in a document known as the employment contract. In the employment contract, are figures of the compensation, the performance bonuses, and other relevant agreements, as well as the terms of employment. Basically, executive compensation comprises of the basic salary and all other bonuses. The bonuses include rewards and incentives meant to motivate the executives to work harder. The executive compensation may also include income protection guarantees, perquisites, and incentives such as stocks. The employees covered by the executive compensation are chief executive officers, company presidents, and any other employee at the high levels of an organization.
Executive compensation is arguably one of the most crucial activities in any organization. Unfortunately, it is among the most flawed and corrupt elements, of all available options of incentive systems. This is evidenced by the high number of cases that have gone to record where executives were heavily compensated, placing their respective organizations at great financial risks. Eugene Grace, president of Bethlehem Steel, was given a base salary of $12,000, and an additional bonus of $1.6 million. This compensation is exorbitantly high and would place any organization at a financial risk that would lead to closure.
Quite a number of arguments have come up concerning the compensation of executives. Some people insist that executives are highly compensated while others maintain the argument that they are not compensated highly or excessively. Over the years, there has been an outcry on this issue and so many proposals have been forwarded on how to best deal with it.
Several articles have been written concerning this issue. One author, Kaplan N. S. argues that U.S. CEOs are not overpaid. Kaplan insists that it is the weaknesses of the governing boards who manage the particular organizations that lead to CEOs being overpaid (Kaplan 16). He goes on to argue that high CEO pay is a market phenomenon that is catalyzed by technological change. According to Kaplan, the salaries of CEOs increase depending on how much profits an organization is making, as well as the economic condition at the present time. To support his argument, Kaplan compares CEOs to other groups of employees; investment bankers, private equity investors, athletes and even lawyers (Kaplan 18). The compensations of the people in these groups keep increasing, regardless of what their compensation contracts state, just as the compensation rates of company CEOs. To this argument, Bogle J.C. differs and states that the shareholders in a company have little or no influence at all on how much CEOs are paid as their compensation (Bogle 22). Further on in his article, Kaplan states that the prices of stocks determine how the salaries of CEOs increase. Bogle opposes this by saying that stock prices are not enough to determine an organization’s performance. Instead, an incentive pay for the CEOs be distributed and paid over a period of time.
Another author, James P. Walsh also differs greatly with the arguments of Steven N. Kaplan concerning the compensations of CEOs. The two agree on the fact that CEOs are overpaid but disagree on other stated facts. In contrast to the argument of Kaplan that when accounting for the compensation of CEOs, only the value of exercised options should be considered, and not the new options. According to him, if the two options were to be considered, it would then be a double count of the compensation. This means that a CEO would get paid twice, under the option of new grants and under the option of exercised grants. Walsh states that the two should be considered when accounting for the compensation, otherwise the motivational benefits of the new option grants would be missed (James 28). This is because according to Walsh, compensation pay is supposed to serve both as a reward, under the exercised options, and as an incentive, under the new option grants.
In his article, Kaplan states that the compensation of CEOs goes in line with their performance. Walsh differs with this and picks studies that show measurements of performance in relation with pay do not count.
According to the current economic condition of the United States of America, things are much better, since there has been recorded growth. It is undisputable that between 1992 and 2007, corporate rates have increased at a higher rate than the economy itself. The increase in corporate rates has led to a growth in the U.S. Gross Domestic Product. This growth has served the economy as a whole a major boost. However, it would be wrong to attribute this to the efforts of the Chief Executive Officers. This means that paying the executives high compensations would be unjust and wrong.
Another thing to note is that other groups of employees do not enjoy the high compensation rates that Chief Executives enjoy. A good illustration for this is that of an entertainer. How much an entertainer earns depends on how well he is able to entertain his fans. In other words, the fans pay them out of their own pockets. This is not the case with executives. Executives are paid by their directors, using other people’s money. It is on this note that Bogle gave the argument that shareholders only have the authority to hire and fire those in the management positions, but are in no position to influence how much the executive officers are paid, both as salaries and incentives. This has led to increments in executive compensations, which are not accounted for (Hitt, Ireland, and Hoskisson 246).
The lack of accountability on the increased executive compensations can be attributed to a number of reasons; indifferences between the highly paid financial managers and the institutional managers, conflict of interest: managers who represent the interests of the shareholders not wanting to disappoint their high profile clients at the cost of the shareholders, and finally, many shareholders are into short term investing, leading to a lot of indifferences in the governance issues (Hitt, Ireland, and Hoskisson 334). If the above three were checked into, then it would be possible to control the increasing compensation rates.
There is the belief that a high rate of executive compensation is a reflection of how well a company or organization is doing. Based on this notion, many managers will go out of their way to heavily compensate their chief executives, as a way of marketing their organizations. It is unfortunate that most of them will do this at the cost of the organization, risking its financial position. It is risky to base the executive compensation on the price of stocks. This is because stock prices are short term and could be an illusion. It would therefore, be wise to measure the performance of executives and pay them based on long term intrinsic values, such as the corporate earnings growth, or corporate cash flows which are very difficult to manipulate (Hitt, Ireland, and Hoskisson 387). This would greatly reduce the financial risks that would ensue.
Reliance on executive compensation consultants has also led to the increased executive compensations. Bearing in mind that executive compensation is one of the corrupt incentive systems in any organization, it is possible that these consultants would work in favor of those concerned. Again, the consultants work by grouping the CEOs into quartile groups. These corporate peer groups work in favor of the CEOs and should hence be done away with. Executive compensation should only be based on executive performance.
In conclusion, from quoted figures, it is clear that many chief executives are overpaid. It is also clear that the basis on which they are paid are not authentic. Systems and standards should be set to regulate rates of executive compensation. Executives should be compensated and rewarded based on the corporate performance, since there are many available and reliable ways to measure the performance of an organization. It is also advisable that executive compensation consultants be done away with. The consultants do nothing but add to the costs the organization incurs. An executive should be rewarded based on their work and not on what another person advises. Finally, corporate rules and laws should be revised in a way to allow for shareholders to have authority not only over who or when to fire and hire, but also on how much the executives should be paid, and when it is right that the compensation rates be increased. This amendment would go a long way to ensure that the flaws and corruption incidents witnessed during this activity or in this incentive system are no longer there. Executive compensation should entirely be based on the corporate value, and not on other factors such as the stock price.
Steven N. Kaplan. Are U.S. CEOs Overpaid? Academy of Management Perspectives, 22(2)
(2008): 5-20. Print.
James P. Walsh. CEO Compensation and the Responsibilities of the Business Scholar to Society.
Academy of Management Perspectives, 22(2) (2008): 26-33. Print.
Bogle, J. C. Reflections on CEO Compensation. Academy of Management Perspectives, 22(2)
Juan Santalo and Carl Joachim. Division Director versus CEO Compensation: New Insights Into
the Determinants of Executive Pay. Journal of Management, 35(4) (2009). Print.
Hitt A. Michael, Ireland Duane R., Hoskisson Robert E.. Strategic Management:
Competitiveness and Globalization Concepts. London: Cengage Learning, 2010. Print.